Learn from the Past
Mortgage backed securities (MBS) gained 13 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to move sideways from the prior week. The market saw its lowest rates on Wednesday and its highest rates on Tuesday.
It was a very busy week with some very important and heady economic reports (Retail Sales, PPI, CPI) as well as some strong Treasury auctions (10Y note, 30Y Bond). But it was the Federal Reserve that drove bond prices last week.
If the Federal Reserve actions, outlook and comments from last week were viewed and interpreted in a vacuum, they would be considered very “hawkish” as they raised rates, laid out a plan to reduce their monthly purchases of Treasuries and MBS, and 12 out of 16 members told the markets to expect at least one more hike this year. But we don’t live in a vacuum and currently the market simply doesn’t believe that the Fed will follow through with their plans and/or the economic data moving forward will be too weak to justify further tightening this year.
Here are some key highlights of their announcement:
(1) Increased their fed fund rate by 25 BPS to the 1.00% to 1.25% range.
(2) Only one dissenting vote – Neel Kashkari.
(3) Said that recent lower inflation needs to be “monitored” but expects the 12 month period to stabilize around 2%.
(4) Keeps their reference to “gradual rate hikes” moving forward.
(5) Upgraded their economic outlook. Says economic activity has been rising moderately vs prior assessment that it has slowed.
(6) Says risks appear “roughly balanced” in the near-term.
In addition, they gave detailed information about winding down their massive balance sheet:
(1) They expect to begin the process of balance sheet normalization “this year” which the market is interpreting as 4th quarter.
(2) The size of the “caps” for Treasuries will start at $6B and for MBS it will be $4B. That will gradually move to a max cap of $30B for Treasuries and $20B for MBS.
What’s on the agenda for this week?
There was a lot of choppiness last week (62BPS swing from highs to lows) but in the end, MBS really just moved sideways. This week, look for MBS to once again move sideways but without the choppiness. Geo-political fear and uncertainty continue to drive heightened demand for bonds. There are no domestic events this week that can impact pricing but experts will be paying close attention to the Talking Feds.
The three areas that have the greatest ability to impact back-end pricing this week are: (1) The Talking Fed, (2) Geo-Political Events and (3) Across the Pond.
(1) The Talking Fed: The bond market has effectively ignored a surprisingly more “hawkish” tone last week. But this week there will be a barrage of Talking Feds and experts will be paying close attention to their individual messages.
06/19 William Dudley and Charles Evans
06/20 Stanley Fischer, Eric Rosengren and Robert Kaplan
06/23 William Dudley, James Bullard, Loretta Mester and Jerome Powell
(2) Geo-Political Events: Brexit talks between Great Britain and EU members started officially today and comments/details out of the negotiations could have an impact on how traders view growth prospects in the EU. The markets will also react to any progress with healthcare in the Senate and tax reform through the House as well as new developments in the Russia/Trump “investigation” as there are conflicting reports from both media and state department sources if there even is an investigation (other than in Congress) by the FBI, etc.
(3) Across the Pond: While there is a lot of housing news to digest this week, there are no domestic economic releases that have the gravitas to move the needle on MBS pricing. The bond market will be focusing on overseas economic data this week:
Japan (number 3 economy): Their minutes from last week’s Bank of Japan meeting, Nikkei Manufacturing PMI
Germany (number 4 economy): PPI and an important 30 year bond auction, PMI
European Central Bank (ECB): Non-Monetary ECB Policy meeting, Consumer Confidence, PMI
A nice and boring opening to the week. There were no economic releases or auctions to contend with. The number 3 person in the Fed (powerful Dudley) kept the pressure on as his comments pointed to the Fed meaning what they said last Wednesday.
The Talking Fed:
NY Fed President William Dudley (permanent voting member) kept the “hawkish tone” alive saying, “We are pretty close to full employment. Inflation is a little lower than what we would like, but we think that if the labor market continues to tighten, wages will gradually pick up and with that, inflation will gradually get back to 2 percent.”
Chicago Fed President Charles Evans will speak tonight.
On Deck for Tomorrow: Fed speakers Fischer, Rosengren and Kaplan.